The Federal Reserve this week requested public comment on a proposed rule that would establish minimum mortgage underwriting standards, and require creditors to verify a would-be borrower's ability to repay a mortgage before extending a loan.
The rule is proposed as a revision to Regulation Z, which implements the Truth in Lending Act (TILA) and is pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act.
This rule, if implemented, would be in addition to previous Regulation Z rules that went into effect on April 1, setting compensation regulations for loan originators.
Those rules restricted loan originator compensation in three primary ways. One, originators can no longer receive compensation based on the interest rates of loans they sell to borrowers.
Also, if a borrower pays a loan originator, no other party can pay that loan originator.
And lastly, loan originators cannot steer borrowers to loans that benefit the originator at the detriment of the borrower.
The new rule would establish minimum mortgage underwriting requirements and ability-to-repay standards for all consumer mortgages except home equity lines of credit, timeshare plans, reverse mortgages and temporary loans.
Mark Riedy, executive director of the Burnham-Moores Center for Real Estate at the University of San Diego, said the new regulations would cost consumers time and money in the mortgage market.
“I’m pro-consumer, but you don’t need new rules to (protect consumers),” he said. “You just need to enforce the rules that are already there.”
Under the proposal, a creditor would have four options to satisfy the ability-to-repay requirement.
Primarily, a creditor could meet the requirement by verifying specified underwriting factors.
Those underwriting factors would include a consumer’s credit history, income or assets, current employment status, as well as the monthly payment on the mortgage, any simultaneous mortgage or other mortgage-related obligations, other debt obligations, or the monthly debt-to-income ratio.
A creditor can also make a “qualified mortgage” that would protect him or her provided the loan doesn’t include certain features.
The board is accepting comment on two definitions for a qualified mortgage.
The first alternative prohibits loans containing negative amortization, interest-only payments, a balloon payment or one with a term exceeding 30 days.
Additionally, points and fees cannot exceed 3 percent of the total loan amount, the relied-upon income or assets in the ability-to-pay determination must be verified.
The underwriting of the mortgage must be based on the maximum rate charged in the first five years, use a payment schedule that fully amortizes over the term of the loan and take into account other mortgage-related obligations.
The second alternative would provide a rebuttal presumption of compliance and would define a qualified mortgage as meeting the criteria in the first alternative, as well as the other requirements from the ability-to-pay standard.
John Olbrich, president of American Security Mortgage, said the new regulations wouldn’t affect him or any other "A-paper lenders" in the slightest.
“No one I’m aware of is offering loans under those terms anymore,” he said. “It’s not going to affect my business at all, so I probably won’t comment.”
In rural or underserved areas, a creditor would still be allowed to make a balloon-payment qualified mortgage, which are used by banks in these areas to hedge against interest rate risks for loans held in a portfolio.
A creditor can also refinance a “non-standard mortgage,” one containing certain risky features, into a standard mortgage with a lower monthly payment.
The standard mortgage cannot include negative amortization, interest-only payments or balloon payments, and would have limits on loan fees. This is intended to preserve access to streamlined refinancings.
The Federal Reserve Board is receiving comment on the proposed rule until July 22.
On July 21, rulemaking authority under TILA transfers to the Consumer Financial Protection Bureau (CFPB), which was constituted in Dodd-Frank and is housed in the Federal Reserve.
As such, the CFPB will finalize the proposed rule, not the Federal Reserve Board.
This new provision of Regulation Z would also implement the restrictions on prepayment penalties specified in the Dodd-Frank act.